Before Laughing at Einhorn’s Taco Bell/Chipotle Theory …

When Greenlight Capital’s David Einhorn recently suggested Chipotle Mexican Grill (NYSE:CMG) shares were likely to struggle, the market paid attention. After all, he was the same guy who predicted the demise of Green Mountain Coffee Roasters (NASDAQ:GMCR) shares in the middle of last October, and the stock lost 80% of its value over the following 10 months.

It wasn’t until Einhorn explained why he thought Chipotle stock was in trouble, however, that investors’ curiosity turned into amusement.

His worry? That Taco Bell’s push into the premium market is a serious threat to Chipotle’s market share.


Night and Day

Any fast food aficionado can tell you that the Chipotle experience and the Taco Bell experience are not one and the same. Taco Bell is cheaper for a reason. Indeed, some consumers simply refuse to eat there for a variety of reasons.

Average order size? Around $4.

Chipotle, on the flip side, is higher-quality food at a relatively premium price. It tastes better, too — as it should, since it’s made fresh, with more ingredient options.

Average ticket price per customer? Around $8.50.

What’s interesting is that consumers compare the two Mexican food joints to one another far less than investors have been giving them credit for since the Einhorn comments.

Nobody walks into a Taco Bell expecting greatness. Nobody walks into a Chipotle expecting grade-D beef in a soggy taco shell that’s been under a heat lamp for an hour. How in the world could Einhorn even put the two on the same playing field?

Well, there’s a reason that might not be so crazy after all.

On the Other Hand …

Einhorn’s core rationale behind Taco Bell being a threat to Chipotle might not be as crazy as the market’s making it out to be.

Yum! Brands (NYSE:YUM) has been taking its Taco Bell division in a new — and better — direction. If you’ve not eaten there lately, you might have missed its new higher-end menu items created exclusively for the chain by Lorena Garcia. The new line, called “Cantina Bell,” offers eight new items that tend to lean closer to Chipotle’s ingredients (like rice, pico de gallo and corn salsa) than the old Taco Bell food we’ve all grown accustomed to over the past three decades.

It’s a welcome step in a fresh direction, especially in the shadow of the restaurant’s love-it-or-hate-it debut of a Doritos-flavored shell earlier in the year. But it’s unlikely the company itself even expects to turn Chipotle’s restaurants into tombs with the new premium food … even at a price of less than $5 for each item.

Then again, Taco Bell doesn’t have to be a dollar-for-dollar, customer-for-customer opponent to Chipotle to make life rough for CMG.

While he might not have explained it very well (or at all), Einhorn also is likely aware of the bigger-picture numbers in play here.

Crunching the Numbers

While the knee-jerk reaction to David Einhorn’s comments were based on a consumer’s point of view, we might want to reconsider it from an investor’s point of view.

According to recent reports, the average Taco Bell store generates $680,000 in annual revenue. With 5,600 units in the United States — some franchised and some corporate-owned — the group generates about $6.8 billion in sales per year. Chipotle, on the other hand, operates a little more than 1,250 restaurants (corporate-owned), and the company did $2.269 billion in sales last year. That’s about $1.8 million in annual revenue per restaurant.

But what’s that got to do with Taco Bell?

Taco Bell doesn’t have to make the Cantina Bell menu a smashing success at each restaurant to trip Chipotle up.

If each Taco Bell location can simply steal a very-doable 20 customers per day that would have otherwise visited a Chipotle, that’s 90 fewer customers per day for each Chipotle. With an extra 20 customers per day at an average spend of $5 each, every Taco Bell stands to increase its annual top line by about $36,000 per year. But, if every Chipotle sees 90 fewer customers per day (because they’re at Taco Bell), at an average ticker price of $8.50, every Chipotle restaurant stands to lose about $280,000 in business they currently enjoy.

Yes, there still are a lot of “ifs” and “buts” in play, and with the average fast-food restaurant only serving about 500 people per day, an extra 20 customers every day might not be easy to come up with. Not every Chipotle is within competing distance of a Taco Bell, either, and let’s face it — there’s only so much of a “premium” feel Taco Bell can conjure up.

But Einhorn isn’t crazy here. What might only be a small win for Taco Bell really could be a big problem for Chipotle stock, if only because Taco Bell is so much bigger.

As of this writing, James Brumley did not hold a position in any of the aforementioned securities.

Article printed from InvestorPlace Media,

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